One of the biggest mistakes investors can arguably make when analyzing the performance of Warren Buffett (Trades, Portfolio) over the past seven decades is to link him purely to equities.
The Oracle of Omaha has made a lot of money in equities, but the vast majority of his fortune has been created not through successful equity investments, but by successfully leveraging his presence in the market to improve returns from individual assets.
What I mean by this is that over the past couple of decades, as Berkshire Hathaway (BRK.A, Financial) (BRK.B, Financial) has grown in size, it has been able to orchestrate better deals, which have achieved a favorable result for the corporation.
Individual investors would be unable to structure these deals themselves. Berkshire has gained a competitive advantage over the rest of the market due to its size and solvency.
There's also the fact that many other stakeholders believe in Buffett's strategy. This is why it has become the lender of last resort for companies. Managers are happy to go to the business to ask for money, knowing full well it will be able to find the financing and support these organizations through whatever situation they may find themselves in.
That is not to say that the Oracle of Omaha has not made a lot of money investing in equities over the years. He has. Still, he has earned the vast majority of his fortune over the past two decades. During this period, Berkshire's most lucrative investments have been emergency loans to companies carrying high rates of interest, share warrants and corporate acquisitions. The one exception to this rule is Apple Inc. (AAPL, Financial).
As a result, I believe we should not just concentrate on Buffett's successful equity investments when analyzing his successes over the past few decades.
Instead, let's view his investments as an overall package and review how he has deployed Berkshire's capital effectively to capitalize on situations when they emerge, no matter whether this is in the equity market, in the private business space or other deals structured to the company's advantage.
Capitalize on situations when they emerge
At the 2006 Berkshire annual meeting, one shareholder asked the Oracle to shed some more light on his silver trade.
For readers who are not aware, Berkshire made a significant investment in the silver market before the financial crisis, a trade which ran counter to Buffett's previous comments on gold, which he said he likes to avoid because it does not produce any income or cash flow for investors.
As Berkshire had sold out of the position at the time of the meeting, Buffett was happy to explain why he bought the commodity:
"Overall, silver was being produced and reclaimed at a lesser rate than it was being consumed. And added to that was the fact that there are relatively few pure silver mines. Silver is largely produced as a by-product of copper and lead and zinc, and so that it was not easy to bring on added production. So, all of that added up to the fact that I thought that silver would get tight at some point."
This is an example of Buffett trying to capitalize on an opportunity in a market where he believed he had an advantage. This is an excellent illustration of his strategy in action, although he did not make much money on the silver trade overall.
As the Oracle went on to explain:
"I was early in that conclusion, and I was early in selling. So we have no silver now, and we did not make much money on it. And you're right that it doesn't earn anything. So you sit with it. It's not like sitting with a stock where, in most cases, earnings are piling up for you. You have to hope that it — you have to hope that a commodity moves in price, because it is not producing anything as it sits there looking at you. And that's one of the drawbacks of commodities."
Buffett knew silver had its drawbacks, but he still went on to buy the commodity. He thought he had an edge, and he thought he saw an opportunity.
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